4 critical things to know about calculating business value
For a deeper dive on how to calculate business value and why it matters, watch Dave Heymann’s webinar on-demand.
If you’d like to learn more about which potential buyers are likely to pay a premium for your company and which ones will threaten your legacy, we invite you to register for two upcoming Vistage Deal Network webinars.
Protecting Your Legacy: Buyers to Avoid When Selling Your Business
Thursday, May 23
10:30 a.m. PT
Finding the Right Buyer for Your Business – It May Not Be Who You Think
Thursday, June 20
10:30 a.m. to 11:30 a.m. PT
Most business owners think the value of their business lies in its assets, sales and profits. But professional deal-makers have a different idea of where the value of your business truly resides. If you understand this basic-yet-powerful fact, you place yourself among the most elite of sellers.
That’s because, by knowing what professional buyers want, you can begin today to plan and shape your company for its eventual sale. Even if you are not going to sell your business for decades, you need to begin planning for that event now. Otherwise when it comes time to sell, you will discover all of the things you should have been doing over the years to build value and make your business buyer ready.
What should go into your exit plan? The short answer is anything that increases business value in the eyes of the buyer. Here are four critical things to know about how a buyer sees your business value:
1. Be ready to showcase unexplored opportunities
A buyer is not purchasing your business for what you, the current owner, have been able to do with it. They are buying the company for what they can accomplish after they put their resources into it. That’s why you should begin by identifying all of the opportunities that the seller could take advantage of in your company. This involves thinking outside of the box.
Ask yourself: What could be done with my product or service that I had never considered because of limited resources?
When a buyer asks what can be done with your business if it wasn’t resource constrained, you want to be able to reach into your credenza and pull out a plan that itemizes these opportunities and the estimated resources required to pursue those markets.
Sometimes owners are reluctant to discuss opportunities that they are working on or thinking about because they believe buyers aren’t interested in “blue sky” thinking. However, buyers are attracted to current owners who can envision taking the firm to the next level.
2. Buyers are purchasing the company’s future, not the past
Peter Drucker said, “The buyer rarely buys what the seller thinks he is selling.” So, what is the buyer seeking? It is his future with your platform. Any presentation to buyers must include a description of your intangible assets, such as your customer list, contracts, reputation, and your supplier relationships. You should also identify opportunities to improve the value of your intangible assets.
One intangible asset that buyers value is the company’s ability to operate without you. If you want to leave your business after the sale, are there employees that can take over the company? If yes, that’s a huge intangible asset.
Other intangible assets include your company’s unique channels of distribution. Have you diversified your customer base to make it more resilient to market forces and the competition?
Is your company’s stellar reputation tied to you personally or to your organization? If it’s tied to you personally, it’s time to begin transferring that reputation to others in your company so that buyers find value there.
3. You must recast your financial documents
Business owners make every legal decision they can to minimize the value that is presented in their P&L. However, most buying company CEOs need to maximize profit to keep their job. These two polar opposite approaches can be reconciled by recasting your financial past. The “add backs” that many accountants talk about are less than half of the answer. Buyers will also perform an M&A recast to rewrite the target’s financial history as if they had always been part of the acquirer’s firm.
4. M&A professionals are the go-to source for valuation guidance
Most sellers believe that multiples and formulas are the way to determine the value of their firm. But here’s a secret: Buyers in every industry use multiples to set low expectations in the seller’s mind. This is only for negotiating purposes.
Buyers are not going to calculate value based on some multiple of the seller’s past results. Again, the buyer will be buying his or her future, not your past. As a result, you need to have value determined by an M&A professional or an MR&A firm, not an accountant or a broker.
Ultimately, buyers will calculate value based on a forward projection of the future of the business under their ownership. They will then use a discounted cash flow approach to determine the maximum value of that future.