At some point in time, every business owner will leave their business (voluntarily or involuntarily). Through proper planning, an owner should expect to achieve their desired goals. Statistics show that the value of an owner’s business accounts for over 90% of their personal wealth. However, more than 75% of all business owners do not have a formal transition plan in place.
More often than not, the need for a business valuation arises when one of the four D’s occur (Death, Divorce, Disability, or Distressed Business). In order to be a valuable tool, a business valuation should be used on a periodic basis to provide an owner with an appropriate value of their business, while assisting in the exit strategy process. A business valuation should not be merely the result of an event requiring it.
Statistics show that the value of an owner’s business accounts for over 90% of their personal wealth- but more than 75% of all business owners do not have a formal transition plan in place.
What is a Business Valuation?
A business valuation is more than the application of mathematical models used to derive value. It is also a thorough understanding of the Company’s industry, operations, financial position, management team, and particular business risks (all of which have a significant impact on business value).
What is the Value of My Business?
Depending on the circumstance and goal of the owner, value can vary substantially. For example, upon sale to an unrelated party, an owner would expect to receive a maximum purchase price for their business. However, that same sale to a family member or employee may need to be structured so that the cash flow of the business can support the purchase price and make payments to the owner.
Treating Your Business as an Investment
Usually, a business is an owner’s largest investment. However, most owners do not treat their business like an investment. While investors in the public stock market have access to the value of their investments, they also demand a required rate of return on that investment.
For a closely held business, owners generally do not understand (i) the value of their business; (ii) whether or not the business is generating an adequate return on investment; and (iii) what drives/creates value.
To bridge this gap, business owners should have a periodic valuation performed to track the performance of their business over time and identify critical factors that have a direct impact on business value.
Planning for the Future
Throughout the life of a business, owners need to plan for the next generation to continue the business. An appropriate transition plan allows for at least 5 – 10 years prior to transferring ownership. As the baby boomer population begins to enter retirement, this issue becomes increasingly important.
When planning for the future, business owners should not only plan for the selection of a successor but also address personal financial needs, minimize taxes and avoid tax pitfalls, provide time to maximize value, and allow for future growth.