“Just give me your “back of the napkin” opinion about the value of this business.”
This is how some conversations begin. Perhaps someone wants to buy your business. Or maybe you’re interested in selling an interest to one of your key employees. A business in town is up for sale and you want to know how to strike a deal with the owner.
While you shouldn’t expect a valuation professional to figure out the value of a business on the back of a napkin, do you really need to pay for a valuation report? Maybe not. You may be better served by investing your time and funds in more important issues.
I’ve received a good number of calls from business people who tell me they need to have their business valued. Many times, though, I find that the reason for their call relates to one of the situations described above. While we can certainly provide them with a valuation report, the fact is that it will usually be overkill for what they really need.
And what is it that they really need? More often than not, it boils down to education and information. Business owners are much better off spending time on discussing how a business is valued.
What drives the value of a business?
What factors are considered?
What about the assets owned by the business? Which ones are included in the value of goodwill or “blue sky” and which ones should be added to that value?
What are rules of thumb? How do they relate to the business’ particular industry?
What adjustments should be made to earnings?
We also talk about deal structures and how they relate to the ultimate sales price.
Is it an asset sale or a stock sale?
What are the terms of payment (cash, debt, both)?
If debt, what are the terms of the loan?
What are the buyer’s expectations of the seller’s continuing involvement in the business?
Will the seller be paid for these efforts?
What are the tax effects of various deal structures?
I find that, once these discussions have taken place, the mechanics of coming up with a fair price between the buyer and seller are usually much simpler. The parties are often able to come up with a negotiated price on their own. When it comes down to it, a valuation analyst is required to gain an understanding of the business and industry, the current economic trends, and the business management structure. Usually, these are things that the buyer and seller already know.
As valuation professionals, we can also provide a lot of information from the resources we have available to us, such as industry benchmarks, transaction details from sales of similar businesses, salary information, etc. Business owners find this information to be very valuable in making decisions.
Does this process always result in a smooth process where everyone is happy with the settled price? Of course not. Very often one or both parties decide not to move forward with the deal. Perhaps the seller needs more time to put his house in order so he can command a higher price. We can then spend our time on improving the structure and systems that can optimize the value of the business. The cultural basis of the business may not be a good fit between the buyer and seller. The price may be fair, but the wheels may fall off the business if too many changes are put into effect. Avoiding a bad deal is just as valuable as entering into a good one. Maybe more so.
So, do we ever prepare valuation reports for these types of engagements? Yes, but in most cases they are structured as limited-scope “calculations of value” as opposed to a full-scope “opinion of value”.
When engaging a valuation professional, it’s important that you get what will ultimately help you accomplish what you want. And sometimes, that starts on the back of a napkin.
Jeff became a principal of the firm in 2010. His specialty is tax, and he leads the firm's agribusiness industry team.
Jeff is a Modesto native, and grew up in a local farming family. He has an MBA and a Masters in Taxation degree, and is a CPA. Jeff enjoys “being able to explain a concept or communicate information that helps a client, and being able to learn from the experience of clients who are very successful at what they do.”
When he’s not helping clients, Jeff's focus is on spending time with his wife and three daughters. If it’s June, he’s outdoors—probably gardening, grilling, or hiking in the High Sierras. In October, you’ll find him spending time with family and still spending time outside if the weather is nice. But in January … where else would he be but in the office? “It’s tax season!”
Jeff’s favorite number is 2000. “For the year that I got married, and also started my first public accounting job.”