What’s your business worth?
There are some noticeable differences and similarities between privately held companies and publically traded companies. The most significant difference is the degree of accountability to which each must adhere. Still, both public and private/family-owned businesses must have a deep understanding of the value of their business and what drives value for successive generations to plan the future disposition of the company.
Public companies are a vital part of the economy in the United States, playing a significant role in the lives and security of many Americans. Because of the impact these businesses have on stakeholders in general, the U.S. Securities & Exchange Commission (SEC) requires transparency and disclosures when filing their initial registration statement with the SEC. In addition, it must continue to keep its shareholders informed by filing periodic reports and other documents to the SEC. These documents include but are not limited to annual reports on Form 10-K, quarterly reports on 10-Q, current reports on Form 8-K, Proxy Statements, and any other additional disclosures that federal security laws require. These kinds of reportings ensure that public companies always know the value of their business.
On the other hand, family businesses, which comprise between 80 – 90% of all business enterprises in North America, contributing up to 64% of GDP, employing 62% of the American workforce and making up 33% of the S&P500, may go several years without knowing what their business is actually worth. While private and family companies may not need to know the actual value of their business daily, it is still essential to have a method for valuation for several reasons.
First, business valuations help manage a company’s performance by providing a current snapshot of the business’s health from which to compare to future standings. By comparing performance from previous years, business owners can better gauge where to allocate resources to improve the quality and performance of their company.
In addition, it allows business owners to plan for succession. Too often, business owners get so deeply rooted in their business that when the time arrives to pass the torch, many are ill-prepared and, as a result, find their own retirement dates postponed indefinitely. Having a valuation of your business serves as a timestamp on your roadmap to retirement. Until “they” find the Fountain of Youth, we only have so much time to give. At some point, either the reigns must be handed off to qualified managers, sold to new owners, passed down to a subsequent generation of family members, or closed for business.
“One concept that’s critical for family business owners, planning for future succession, to understand is that the distribution of the business among several family members should be handled equitably. However, that sense of fairness doesn’t always entail a 50-50 split! As you weigh your company’s assets, you’ll want to first determine whether any children or other family members have an interest in running the business someday, and also those who don’t. It’s important to confirm this before you make any gifting or succession decisions, so that you don’t give a certain share of the business to someone who isn’t expecting or wanting it. It’s important to work closely with a financial expert to first discuss your overall plan for gifting your business and conducting a qualified valuation.” (Kvalo, 2013)
In many cases, business owners consider their business the most significant asset in their estate. Therefore, it might prove wise to do a formal business valuation and consider disbursements of that value to family members. A strategy like this can effectively reduce the tax burden that you pass along to successive generations. A business valuation helps you see where you are currently, but more importantly, it gives you an idea and timeframe for exercising your exit strategy.
Furthermore, having a business valuation for your private or family-owned business provides you with the tools to communicate effectively with both internal and external stakeholders. Many private companies rely on funding from outside sources to which they hold themselves accountable for a solid return on their investments in your business. Being able to provide investors with positive indicators may have an impact on your next round of funding. Still, all companies hold themselves accountable to another external stakeholder, the customer. By understanding the current health of your business, you are better able to make important managerial and executive decisions that impact your customers in positive ways and ensure brand loyalty. In addition, a business valuation might prove beneficial to your employees by showing you ways to invest internally in programs that instill satisfaction, improve wages, and ultimately get more out of your teams.
In summation, you might consider a formal business valuation if you run into one of the following (this is by no means an exhaustive list):
- a divorce;
- when seeking investors;
- when developing a buy-sell agreement;
- when selling your business;
- when planning your exit from the company; and,
- improve the value of your business.
Whatever your purpose for establishing a business valuation, there are many methodologies and approaches to understanding this vital piece of your business. Some of the most common approaches to business valuation include: capitalization of future maintainable earnings, discounted cash flows method, projected revenues, market value, and accounting of net realizable assets. These methodologies, amongst others, can be beneficial to a business owner in determining the health of their business and provide external stakeholders with an understanding of the key drivers of value for your business.
According to Rob Ferguson, of Ferguson Interests:
Most family business owners have >80% of their net worth tied up in their business and yet ask their Financial Advisors to work on the 20% of their net worth outside of their business. Another reason to have a Business Advisor is to help business owners understand the current value of their business, the pain and reward gaps to grow the value.
At Ferguson Interests, we help our clients effectively set their business apart from the competition by providing a scientifically proven methodology for determining the value of your company that will help you to make your company more valuable, discover your company’s hidden assets, and spot things that might be detrimental to the success of your business.
Thinking About Selling Your Business?
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Whether you’re planning to retire and let the next generation take over - or you’re thinking about selling your business to a third party - the sooner you start planning for a successful exit, the better.
For a successful exit, you need to be able to say a hearty “Yes!” to these important questions:
- Are you financially ready personally to exit?
- Are you ready mentally or emotionally to exit?
- Is your business ready for sale or handover?
- If you’re selling - is the business attractive to potential buyers?
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