Archive for July, 2012

Valuation multiples are commonplace in business valuations. Their appeal is that it is easy to estimate your business value by comparison to sales of similar companies.

Yet no two business enterprises are the same. How can you make sure that the valuation multiples you use give you the right answers about your company’s worth?

Focus on the way the business differs from companies used to calculate the valuation multiples. Then make the adjustments, as needed, to ensure that your market comparison holds water.

Unlike the stock market where millions of shares of large corporations trade daily, private business ownerships do not change hands that often. If you are valuing a privately owned business you may be able to find just a few comparable business sales.

Expanding the business sales data set

The more unique the business, the fewer business sales you have to compare against. If you can only locate a handful of transactions involving really comparable companies, you may decide to include additional business sales in your data set. While some of these firms may not be quite the match for your business, the larger number of data points helps to come up with a meaningful set of valuation multiples.

Adjusting business sale comparables for time

Another adjustment to consider is time of the comparable sales. If the market conditions changed relatively little over the last few years, the business selling prices may be usable without significant change. However, if the market underwent significant structural changes or economic slowdown, the current business selling prices may be falling. If you are gathering information on sales three to five years ago, your valuation multiples would need to be adjusted for this market trend.

Regulatory compliance, cash flow, and business value

New or changing regulatory compliance issues may call for another adjustment to your valuation multiples. Cost of such compliance may have quite an effect on business profitability. Since cash flow is the key measure on which to base your business valuation, any anticipated cost increase will affect the business value.

In your industry sector, many other important trends can affect what the business is worth. There are no hard and fast rules on this. Every business is different. How the company is affected by a particular development may differ as well.

Knowing what questions to ask, how to gather the relevant market comparable data, and make the adjustments to your valuation multiples will determine how accurate and useful your business valuation is.

Business Valuation using Multiples

If you check the leading standards on business appraisal, all properly done business valuations require some sort of a report. In fact, the venerable Uniform Standards of Professional Appraisal Practice (USPAP) dedicate a complete Standard 10 to specifying the scope and format of a business valuation report.

The idea is to communicate to others what you believe the business is worth. The report also needs to state how you came up with your results. That’s the justification for the background information and methodology discussion you find in professionally prepared reports.

Business appraisal report format – lengthy or brief?

The question is what format should you use to let other business people know about your business valuation conclusions. Modern appraisal standards, such as the AICPA Statement on Standards for Valuation Services (SSVS No 1), give you quite a range of report types to choose from.

For formal valuation engagements you can create a detailed business valuation report that may span well over 100 pages. This fits well with situations that are likely to require a thorough review of your business appraisal. Think of legal disputes, tax authority inquiries or a major investment round.

On the other hand, planning a business sale with a client may be better served by a less formal and more concise valuation report. Such summary reports can be either written or verbal, according to the AICPA SSVS No 1 standard. The goal here is to communicate your results effectively as part of developing an overall marketing strategy for your business sale. A weighty 100+ page report may be an overkill.

As with any business work product, exercise your judgment to decide which report format is best. As a rule of thumb, if your business appraisal will be subject to considerable scrutiny by potentially skeptical readers, go for a full blown, standards compliant, business valuation report.

If your objective is to communicate the substance of your valuation as part of developing a strategic plan, an informal and highly readable valuation report may be all you need.

Business Valuation Report