The process of valuing your business can often be a challenging and overwhelming. With so many moving parts to assess, transitioning from a blank slate to a clear and definitive market value requires a knowledge of where to start and which questions to ask.
Figuring out a realistic price for your business should be your first step. This endeavour is easier said than done, as vendors are often too close to their businesses to view them from an objective lens. In order to shift to a more objective position, it helps to see your business from the potential buyers’ perspective. Buyers are rarely sentimental, so it’s important to understand their motivations and what advantages buying your business can and can’t bring to them.
To come up with the right figure, you need to know the mechanics involved in how businesses are valued. Getting familiar with the multipliers that are often used within your industry constitutes a cornerstone to a realistic valuation. It is also very important to gain a strong understanding of past and present performance, as well as future potential, and how these factors affect valuation.
What affects business valuation?
Some parts of a business can be more easily valued than others. Tangible assets are much easier than the intangible ones, for example.
Tangible assets typically involve aspects of your business which have a physical form, such as stock, equipment, premises and land. Conversely, intangible assets are invariably non-physical, conceptual aspects of the business which are often more difficult to value. Typical intangible assets include the business’s reputation and intellectual property such as trademarks, copyrights and patents.
It’s the intangibles that need to be presented properly to demonstrate their full value in order to get the best outcome on a sale. Most often, this intangible value is assessed using a multiple of earnings, usually EBITDA (Earnings Before Interest Tax Depreciation and Amortisation) or in the case of service businesses with contracted recurring revenues, ARR (Annual Recurring Revenue).
Businesses will always attract a range of offers depending on the value they represent to each buyer. Where your business sits in this range will be largely driven by the following key factors:
- Unique know-how and Intellectual Property
- How is your revenue derived? Project by project vs via service contract
- Growth profile – Steady year on year growth vs ups and downs in revenue
- Reliance on you as the owner vs management team in place
- Client concentration and reliance on top customers
- Market conditions
What most buyers of SME businesses are looking for is sustainable growth, and all the above factors are measures of how sustainable your business will be.
Your ideal number and your walk-away number
Before going through the process of selling your business, it’s important to have a very clear idea (based on solid reasoning, of course) of the optimal amount that you would be prepared to sell your business for, and the number at the lower end that would make you walk away from a deal.
Gaining clarity on your optimal and lower end figures will provide you with a guide for negotiating a number that both you and your buyer are happy with. Knowing these numbers, and the reasons behind deciding on them, before going into the negotiations will help you.
When preparing to present your valuation to a potential buyer, it is highly advisable for you to establish a strong argument for your valuation and be prepared to answer questions about why you think your business is worth what you think it is. Your business broker should be able to help you with this. In this stage of the process, evidence of performance, assets and discussing the potential of the business moving forward are key factors to consider and gather information about.
Valuation expectations always need to be based on what the business is likely to be worth. They should not be based on personal financial needs or a vanity figure. Potential buyers will also want to know the specific reasons why you are choosing to exit the business. Buyers need to be reassured of the prospect of a smooth handover and continuation of the business post sale, so vagueness on the issue may cause enough uncertainty to put them off the deal. For many business owners, the purpose of an exit sale is to enable the next phase of their life; failing to sell will postpone your plans indefinitely.
Get advice on the value of your business
Before you start the process of selling your business, it is important to set your expectations and make sure they are aligned with the market place. Take advice from a business broker or an external finance director to get a true feel for the value and saleability of your business.
This article was written by Henry Campbell-Jones of Hornblower Business Brokers, an SME business brokerage specialising in the sale of owner managed businesses in the manufacturing & engineering, B2B services & technology, and facilities management sectors.