There are certain cases in which a third-party valuation is essential. But buyers care about valuations a lot less than you might think.
Take a picture of your iPad. Then, drop your iPad off a 20-story building. Now, take another picture. That “before” picture doesn’t say much about the current value of your iPad.
Essentially, this is the problem with business valuations.
A business valuation is a detailed financial analysis that gives you an estimated range of what your company is worth. There are plenty of business appraisers out there. The reputable ones will be certified by the ASA (American Society of Appraisers), the NACVA (National Association of Certified Valuators and Analysts), or a similar organization. They’re not cheap. A professional valuation can set you back anywhere from $30,000 to $50,000.
When You Need a Valuation
Owners of a private company generally don’t have a realistic understanding of the intrinsic value of their business. Family members, investors, and other parties with a lot at stake are notoriously poor at objectively gauging the market value of their pet enterprise. But in certain legal situations, you have to be able to attach a number to the worth of your business:
For estate-planning purposes, or to settle an estate
When one owner wants to buy out another, or when family members want to be bought out
When assets need to be redistributed because of a divorce
To satisfy the requirements of banks and other lenders
In these situations, a complete and thorough business valuation is not only useful but necessary.
When You Don’t Need a Valuation
Unlike a fine wine, valuations do not age well. Sales can go up or down. Demand for your products and services can go up or down. The economy can go up or down. A valuation quickly becomes out of date, perhaps even by the time you get it.
Most important, a valuation gives you practically no information on how much you may be able to sell your company for. The marketplace, not some academic exercise, determines the true value of your business. No matter what the numbers say, your company is worth what a qualified buyer is willing to pay for it on the day of closing.
It is not unusual for M&A law firms and CPA firms to recommend getting a professional valuation at the beginning of the process of selling your company. In their view, it provides the business owner with a benchmark or baseline to use in negotiating a sale. The truth is, prospective buyers couldn’t care less about this valuation. They evaluate a potential transaction through their own criteria, their own set of conditions and values at that time, and the results of their own due diligence.
We recently sold a company in the oil-and-gas industry for 16 times its trailing 12 months’ EBITDA, even though current prices are generally around a multiple of five. That’s because we sold the company to a European buyer who was very interested in picking up some U.S. market share and needed to apply the seller’s proprietary technology overseas. Buyers care about the balance sheet, but they’re also interested in synergies and the unique strengths of the two companies coming together. A professional valuation simply can’t take these into account.
A valuation can be very useful when there is a specific reason for it and a time frame within which to use it. But remember that the state of a company can change pretty quickly. If you’re just starting the process of selling your company, a valuation generally isn’t worth the money and hassle.
DAVID LONSDALE built and sold three venture-funded companies before becoming president and co-owner of Allegiance Capital in 2005, which provides M&A financial services to middle market business owners. @MiddleMktMandA