Business Valuation – Art Or Science?
January 5th, 2010
If you talk to business appraisers, you will soon realize there is not one single magical formula everyone uses to arrive at the selling price for a business. There are numerous approaches and techniques employed by these appraisers and each one of them will swear that his approach or technique to do a business valuation is the best.
The fact of the matter is that when you sell your business your are not just selling a couple of machines and desks. The business might have started like that, but you converted those assets into a new asset that produces income – and that income has a market value.
Before you start doing a valuation, you should first make sure that you have all the necessary information. You need the financial statements for the past couple of years. You also need the assets register and lists of inventory.
Your first step would be to analyze the financial statements and look for any unusual items that have to be removed or adjusted. If any of the assets will not be included in the sale, they have to be removed from the list of assets, e. G. The owner’s private vehicle.
It’s not unusual at all for business owners to pay personal expenses with company money. This way the taxable profit will be lower and they will therefore have to pay less taxes. These often include items like car insurance, house insurance, telephone accounts and cellphone accounts. The problem is that a smaller profit amounts to a smaller selling price for the business, so these items have to be added back to the profit figures. Similarly private income should be deducted from the profits reflected in the income statement.
You should further analyze the income and expenditure figures and identify any exceptionally large amounts. They are often related to once-off expenses, such as major repairs to machinery or buildings. These should be discounted over a couple of years, not deducted from the profit for a single year. Once-off amounts included in income should be treated in the same way.
Also study the assets register to make sure it reflects the market value of assets. If machinery and equipment have not been depreciated, you will have to make provision for that. Old stock items that have no market value any longer should also be deducted the figure for inventory on the balance sheet.
After this you should use a generally accepted approach to calculate a selling price. This can be based either on the value of the assets, the value of future income, or (preferably) both. The business valuation at which you arrive should then be adjusted for general market conditions and also for the risk factor involved in that particular industry.
Business valuations and forensic accounting services are specialised services available at financial firms. If you want to know more about business valuation, why not go to the BTG website that details on how it is done and who might want it.