I had a conversation yesterday that sparked some thought about a subject I face in my practice every day: what is a client’s business really worth?
I hear quick commentary on business values (and sales) regularly – “We’re an $8 Million company”. “…about $3.5 Million”…these comments on a business’ market value or sales are tossed out quickly and frequently, but not always thoughtfully. Reciting sales/revenue numbers can be easy, but ultimately tells you little about the company’s actual value. Asset size can be similarly vague in terms of the net value of the company, as can net book value.
These figures are useful in day-to-day considerations of the immediate access to capital for a business, the size of a particular transaction it can anticipate, the number of employees in the company, and other quick analysis. But the moment shares of the company are to be transferred, via gift, sale, merger or otherwise, a whole new perspective takes shape on the company’s value.
That business you thought was worth seven million at the end of the last calendar year, might turn out to be worth no more than five when you put it on the market. The business you hoped you would only have exposure on $2-3 Million subject to tax valuation (after appropriate discounts), may actually be necessarily valued at $4-5 Million because of the operating covenants and the manner in which control of the company was established.
These are very simple examples about why the valuation or appraisal of your business is important. It may not seem important right now, and may not be terribly important until a liquidity event approaches, or perhaps in the event of unwanted litigation. Yet, until you get some important answers to questions that may skew the estimates of reasonable valuation of your company, you may not know what the company is really worth.
So when do you need to have your company appraised? Most likely you will not need a full appraisal until the liquidity event or crisis is on the horizon, but whether or not you actually pay for an appraisal, it will be in your best interest to know the answers to the key questions that will ultimately determine how your company will be valued.
For example, what is the reason for the appraisal? Different techniques may apply depending on whether you are contemplating the sale of the company, o ran internal recapitalization.
What contingent liabilities exist that you do not consider from day to day?
How can you measure the real, market value of the goodwill of your business?
These are the basics. In the ordinary course of running and managing your business, you may not need to know these answers. But as you prepare yourself for the major events that will transform the ownership and structure of your business, they will become central to accomplishing your objectives.
It’s wise to sit down with your team of key advisors presently and get the right sense of what to expect in a future appraisal. Ask them to make sure a well qualified valuation expert is involved in the conversation and available to answer your questions.
Whether the day of transition is the next year or several years out, you will find you’re well advised to understand the factors that can affect the transfer value of your enterprise.