Valuation Prep
pricing your company correctly
The buyer's perceived "value" will determine the price. If the buyer thinks the price is too high in relation to the "value" delivered, they won't buy.
That is your challenge when setting the price for your business. The price that you get for your business will depend on how you market the business and to whom you market.
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business valuation prep
tips in settng price
To get the price that you expect, you need show 2 or more years up-trend that supports your market value. This includes:
- increasing sales from the prior year
- incurring expenses that directly grow the business
- building a positive cash-flow stream
Additionally -
- get rid of excess inventory
- pay off short and long-term obligations
- show a history of collectable receivables
- maintain a strong credit record with your lender
- resolve any complaints with business bureaus or other
It is critical that you follow these two rules when setting price:
- First, substantiate the true market value for your business:
Picking a number out of the air will be challenged. You can substantiate your price by establishing a "true market" value on your company assets, sales, cash position, and market. - Second, market your "value" to right segment of buyers:
A buyer who has a clearly defined strategy why they want your business may pay a premium over your set price. Another buyer who is only interested in your company assets may be less willing to pay anywhere near the asking price.
business valuation prep
How to Measure Value
Cash is a good measurement of value
Value can mean different things to different people. The "price" to one buyer may signal low value in the benefits received; to another buyer, the "price" may indicate high value. That is why value can be a different measurement depending on to whom you market your business.
But there is one commonality that exists when measuring value: cash. A dollar-is-a-dollar-is-a-dollar. And the more dollars you have, the greater the value of your business.
So how should you measure a greater value
1: Your Sales Should Be Trending Up
This is a given requirement before any business will sell at its maximum market value. If sales are trending down, it's best to revisit your marketing strategy or exit the business.
The buyer will analyze your sales numbers as follows:
- Are your sales from repeat customers
or are they one-time sales? The more repeat customers you have, the better. - Are your sales from a broad spectrum of customers?
You have heard of the 80-20 rule, meaning that 80% of your businesscomes from 20% of your customers. Thisis typicalfor most businesses. The concern is when 95% ofyour sales come from 2-5% of your customers. Whathappens to sales if one of your major customersleave? Having a broad spectrum of customers increases your business value. - Can your sales be replicated?
In other words, can you take your product or service and replicate the sales success in a different market or to a different target segment? If yes, your value goes up. - Finally, the buyer will want to know whether the sales will continue when you transfer the business over to them.
If your business brand, product, customer contacts, etc., are dependent upon YOU BEING THERE, you must prep your business to carve yourself out of the picture. Your business will be more valuable if it is NOT dependent on you.
2: Are Your Expenses Being Managed
Your company will have greater value when expenses incurred support the business operating and marketing strategy. Frivolous expenses or excess employees indicate sloppy management that can decrease the overall value of your business.
Prep your business by removing:
- expenses that are non-business related:
pay off company loans made for personal or non-business use- expenses that do not produce income:
analyze individual line items and pay-off or terminate service relationships for expenses that do not generate incomeAlso, prep your business by documenting:
- large expenses items that support the business operations or sales strategy
- expenses items that are part of your marketing strategy
business valuation prep
Types of Value Buyers
buyers will buy at their perceived value ... not yours
Buyers will buy at their perceived value ... not yours
The value of a company can be perceived differently depending on the type of buyer. It is critical to market your business sale to the right buyer. For example:
Buyers Looking for Assets
- these buyers are only interested in purchasing equipment or assets that can compliment their current operations
- they will be shopping equipment at bargain prices
- they may have little or no interest in your markets or goodwill
| Pricing Formula: |
| the price they will pay is the market value of your equipment and assets - which is generally priced at its replacement value |
| use this pricing strategy when you want to exit the business |
| target the sale of your business to the competition or other-like businesses in your area |
Buyers Looking to Buy Location
- there are buyers who are interested in a particular location such as a retail intersection or logistical handling (i.e., next to the airport).
- these buyers may or may not be interested in your assets, goodwill, or markets
- sellers in this situation generally own the building and land
- these buyers will either tear down or renovate your existing location
| Pricing Formula: |
| the perceived value is dependent on the macro-changes that are happening or expected to happen for that location |
| the price they will pay depends on retail price of similar property in the surrounding area |
| understand the potential use of your location. If your location is in a prime retail location for example, you may price your business and land at a premium |
| you should get an independent land appraisal to substantiate your price |
Buyers Looking to Buy Your Established Market or Operation
- the seller will have established contracts/sales in a geographic location or market to a demographic group where the sales barriers are high
- the buyer will have interest to move into an established market and ramp up their business quickly
| Pricing Formula: |
| the buyer's perceived value is dependent on the cost and time to establish a similar market or operation |
| if the barriers of entry are high, meaning that the cost to setup and capture a similar market relationships are high, then your price could be somewhat high |
| if the cost to setup a similar market is not high, then your price will be dependent on the buyer's perceived value of timing - how quickly they want to be in the market. |
| understand the cost to setup a similar market. If that cost is high, then the perceived value may be high depending on your projected market position |
| if the cost to establish a similar market is not high, then the perceived value is the strength of your documented cash flow position |
Buyers Looking to Buy Your Technology
- the seller will have a specialized or patented technology that cannot be replicated within a reasonable time or cost
- the buyer will be an established operation that can benefit from this technology
| Pricing Formula: |
| in most cases, the buyer would seek to license the technology and may not be interested in buying your operations |
| the buyer's perceived value is the opportunity cost of not having the technology |
| price the business and technology together with the technology piece the greater portion of the overall value |
| the buyer may perceive the value as a great buy where they can take ownership of the technology and discontinue you as a potential hostage holder or competitor |
Buyers Looking to Buy Your Goodwill
- the seller will have a strong brand name in a defined market.
- the buyer will want to capitalize on the brand name to expand their marketing operations
| Pricing Formula: |
| the perceived value is dependent on strength of the brand name and the current operations or product line |
| the value will depend on the brand - which can be subject to different opinions - and the value of your assets and earnings |
| If you are in a position of strength - meaning that your cash flow position and brand recognition are strong - you can bump the price up. |
Buyers Looking to Own Their Business
- the seller has a business that is performing well with potential growth opportunities
- the buyer will be an individual who left the corporate ranks to look for an independent business opportunity
| Pricing Formula: |
| the buyer's perceived value is the cost to finance the business, set an annual salary for the themselves or another business manager, and maintain required capital expenditures |
| the higher your cash flow position, the greater your market value |
| price will be based on your cash flow position which can be 2-3 times over cash flow |
business valuation prep
Establishing Price Level
Understand that there is NO magic formula for setting price. Price is calculated with this one rule in mind:
Price is set at what the buyer will pay — it is not derived from any mathematical equation but rather as a psychological perception by the buyer.
If the buyer perceives that the value of business is great, they will pay a higher price. That will be dependant on the buyers needs, strategy, and resources. That is why you should target your selling strategy to those buyers who will perceive your offering at a greater value.
We have noted below some concepts that can help estimate your selling price based on a history of businesses that have been sold. If you have any questions, don't hesitate to call us for a FREE consultation.
Setting Price by a Licensed Company Valuation
The most accurate way to value a business and to substantiate your asking price is to complete a professional valuation. This is highly recommended if you intend to sale your business above book value.
The three generally accepted approaches used in determining the fair market value of a business is:
- Asset Based Approach
considers the replacement cost as an indicator of value - Income Based Approach
measures the present worth of anticipated future net cash flows
- Market Comparison Approach
compares recent transactions of similar businesses that have been sold
The valuation may use one or more of the approaches above to determine value. It is completed by a professional appraiser using a database of similar valuations of like-businesses from around the country.
The process requires us to prepare the necessary documentation with a financial review of your financial records, operations, and marketing strategy. We will then forward that information to our internal licensed valuation specialist. They in return will complete a valuation report within 5-7 days.
For more information, please call us:
1-571-306-3590
or click to our valuation page for more information
There are other reasons why you may complete an independent valuation of your business:
- for Lending Purposes: you may need a business loan or credit line. Many lenders will require an independent valuation of your business for lending approval
- for Getting Bigger: the valuation report can help you plan for a merger, acquisition, or stock offering
- for Employees: establishing and setting up employee stock ownership plans (ESOP) note: we have partners within our network that can help you establish ESOPs
- for Family Protection: provide information about your estate or ownership succession plan
- for Settlement Claims: determine asset/liability values for divorce or insurance settlements.
- for YOU: simply for wanting to know the worth of your company as you prep your business for an eventual sale
Company Valuation Using Cash-Asset Position
Use this simple but non-substantiated business valuation formula to value and price your business:
Pricing Formula:
Take the value of your assets minus your account receivables (the value should be after you have recasted your financials)Formula:
Sum(1) = asset value - current acct receivablesAdd your net asset value to your 1-Yr. cash flow (use the most recent year's cash flow position)
Formula:
Sum(2) = Sum(1) + one year's cash flowNow take the cash flow and multiply it by 3
Formula:
Sum(3) = one year's cash flow x 3Add Sum(2) and Sum(3):
Formula:
Sum(4) = (net asset value + cash flow) + (cash flow x 3)Divide Sum(4) by 2
Add in the value of the accounts receivables
Formula:
Sum(5) = (Sum(4) / 2) + (Accounts Receivables)This will give you an approximate value of the business.
Setting Price by Weighted-Cash Flow
This is a common practice used in the industry to get an estimated company valuation. It is based on the weighted cash flow position of the company over a 2-yr, 3-yr or 5-yr average.
You simply "weight" the current and prior's year cash flow position to derive the company's overall cash flow that is multiplied by an industry multiple to derive overall value.
Pricing Formula
Formula 2-Yr Avg:
Cash Flow = (2017 cash flow*2 + 2016 cash flow*1)/3Formula 3-Yr Avg:
Cash Flow = (2017 cash flow*3 + 2016 cash flow*2 + 2015 cash flow*1)/6Formula 5-Yr Avg:
Cash Flow = (2017 cash flow*5 + 2016 cash flow*4 + 2015 cash flow*3 + 2014 cash flow *2 + 2013 cash flow *1)/15Find the industry multiple
Formula:
the industry multiple is determined by similar companies that have sold or that are currently on the marketTake the cash flow average and multiply it by an industry multiple
Formula:
Sum(2) = weighted cash flow X industry multiple
Setting Price by Your Marketing Strength
If your business has intrinsic value such as goodwill, established contractual relationships, prime location, or patented technology, you may set a value that equates the cost it would take for the buyer to replicate that value.
For example: if you have patented technology that would cost the buyer $YYY in development, the value of that technology would be priced at $YYY if the technology can be used in the going operations of the business.
If your business has contractual relationships that would take a buyer $ZZZ dollars to develop, the value of those relationships would be worth $ZZZ if those contracts can be transferred to the new buyer.
Setting these values can be tricky. We highly recommend that you use a professional valuation based on:
- Income Based Approach
measures the present worth of anticipated future net cash flows - Market Comparison Approach
compares recent transactions of similar businesses that have been sold
see what your company is worth: contact us for details on a valuation choice
Setting Price by Asset Holdings
Asset valuation is less complex than market valuation. You simply price the company based on the replacement or liquidation value of your company assets and equipment.
If you have specialized equipment that is not easily compared in value with other readily available equipment, you might consider a professional valuation based on:
- Asset Based Approach
considers the replacement cost as an indicator of value. This will substantiate the asking price for your asset holdings
see what your company is worth: contact us for details on a valuation choice
Helpful Tools
Some helpful forms business owners:
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