Business valuation changes over time
If you take a peek at a typical business valuation report, one of the elements that appears prominently in a separate section is the date of the appraisal.
In fact, professionally done business appraisals are only valid as of that date. Clearly, business valuation experts know that business value can change past the valuation date.
Indeed, business valuations are always forward-looking. In other words, the value of your business depends upon its earnings prospects and business risks that it is likely to face in the future.
In a rapidly changing economic environment your business value can be affected in a number of ways:
- Sharp shifts in the buyer behavior as customers become more cost conscious.
- Failure of key customers and suppliers.
- Difficulty in raising the much needed short and long-term capital to fund business operations.
- Competition from cheap or free substitutions as former customers look for less than perfect but affordable alternatives.
Such changes can dim your business’ earnings outlook as well as increase its risk. By how much? You can repeat your business valuation at any time to find out.
For example, you can estimate the decline in business earnings likely to result from the loss of a large customer. If your company relies on just a few key customers for most of its revenues, the customer concentration is a significant business risk. Should some of these customers fail or reduce their purchases, your business earnings are likely to suffer considerably.
Conversely, a highly diversified, loyal customer base reduces the likelihood that any one customer defection would affect the business earnings much going forward. Nothing is more valuable to a business in times of economic uncertainty than a steady, recurring revenue stream coming from many existing customers.
The income-based business valuation methods give you the best way to estimate how the value of your business is affected over time. For example, you can use the Discounted Cash Flow method to calculate your business worth at any point in time. Your main inputs are:
- An income stream you expect from the business.
- The discount rate that you build up by assessing the company’s risk profile.
- The long-term or terminal value of the business.
You can also use the so-called capitalization methods to appraise your business. The Multiple of Discretionary Earnings method is an outstanding way to value a business based on its earnings and a set of financial and operational performance factors.
Each factor lets you assess the business risk in a specific area, for example, stability of earnings, customer and product concentration, competition and quality of management and staff.
You can use business valuation as a strategic business planning tool: implement changes, then measure their effect on your business value. Steer your business strategy to retain and grow your business worth!