How to Get an Accurate Business Valuation?
Today, whether you are looking to acquire a business or maybe sell your own startup, it is imperative to determine the dollar value of the asset. There are several ways of determining the valuation of a business, which include its worth in assets, stock prices, the size of projected future cash flow and examining similar businesses. However, the key to an accurate valuation is to hire a business valuation expert.
Even though hiring an expert ensures that the valuation is near accurate, knowing a little about how the process works is always important.
Why Does A Valuation Matter?
Almost everything you buy and sell has a dollar value associated with it. The asset or item has a certain worth, which has to be determined as accurately as possible. Whether you’re buying or selling a business, knowing its worth is imperative, but there are other reasons such as:
- If you are applying for financing from investment bankers, venture capitalists, and lenders, they all will want to know what a business is worth.
- When one of the partners wants to dissolve the partnership by leaving, it is essential to calculate their share value. Usually, depending on the number of partners, it will be a fraction of what the company is evaluated at.
- In a divorce, the valuation of a business is necessary for dividing up the assets equitably. However, other factors go into how assets are divided up in a divorce settlement.
Business Valuation Meaning
A business valuation is a general process of determining the economic value of a whole business or company unit. Business valuation can be used to determine the fair value of a business for a variety of reasons, including sale value, establishing partner ownership, taxation, and even divorce proceedings.
Usually, the valuation of a business can be a contentious issue. For instance, in the case of a partnership, your partner may want a much higher value for their stake in the company than you feel their share is worth. That’s why it is so important to bring in an objective professional from the outside.
Hiring a Business Valuation Professional
In the past couple years, we’ve witnessed the business valuation industry grow substantially. However, with the growth, we’ve also seen organizations offer inadequate training programs, we’ve seen many mediocre appraisers/valuators and we’ve also seen generic software that honestly does not work. Yes, they may offer a vague ballpark figure but nothing you can take to the bank.
Valuation experts should have years of experience and be backed by the education needed to provide you with an exact valuation. The figure they give you should be precise and be accompanied by an in-depth and comprehensive analysis to substantiate the valuation. The professional you hire shouldn’t just give you a figure but also a breakdown of how they arrived at it.
The Cost of A Business Valuation Service
The cost of a business valuation service may vary quite a bit. You will want to ask the professional what they charge during the initial consultation. An estimate of what the work will cost will help you allocate a budget for the project. Usually, a verbal appraisal is more cost-effective compared to a written report. Getting a written report is more expensive because it is more time-consuming. A report will usually be required if the valuation is part of a litigation engagement.
The most important thing to understanding is the type of valuation and/or appraisal you will need and what that type of valuation and/or appraisal will cost. Discussing costs associated with the job upfront will mean that you and the valuation expert are on the same page. Also, be sure that you give the valuation expert a complete rundown of what you need so there are no surprises later on.
Professional Designation
You will find business appraisers with backgrounds and experiences that are extremely varied. As someone in the market for a professional, you will want to find someone who is a CPA with applicable experience in business as well as the required education in the field of valuation, which will mean asking for credentials. At present, four accreditation programs are considered the very best:
- ABV (Accredited in Business Valuation) – Certified through AICPA
- ASA (Accredited Senior Appraiser) – Certified through ASA
- CVA (Certified Valuation Analyst) – Certified through NACVA
- CBA (Certified Business Appraiser) – Certified through NACVA
If the professional you want to hire does not have one of these professional designations, it’s our recommendation not to entrust them with evaluating and valuing a business. After all, a valuation is not entirely based on experience alone.
Who Will Value a Business?
Today, there is quite a bit of competition amongst professionals who value businesses. In fact, there are some who work as valuators full-time, but part-time valuation analysts tend to outnumber them. Part-time valuators will spend most of their time working in other areas. As someone who is in the market for a business valuation expert, it is important to hire a professional with the right experience and qualifications.
You will also want to understand the weaknesses and the strengths of the professional, especially in litigation engagements. Understanding this will help you work with an attorney to better understand your case and also help develop a better strategy to cross-examine any expert working with opposing counsel.
Among the groups that provide business valuation services, the most common are the following:
- Accountants (CPAs)
- Industry experts
- Business brokers
- Business valuation analysts
- Investment bankers
- Commercial real estate appraisers
Accountants (CPAs)
Over the past couple of years,
Let’s start with the fact that an account has several advantages, which helps them value businesses. For starters, they understand just about every financial terminology out there in addition to all the current financial concepts, which means that they have an advantage when it comes to making sense of all the financial statements generated by a business. Accountants have the ability to analyze financial statements comprehensively and essentially use their analytical toolbox to determine the value of the business.
Accounts are trained to work with numbers which offers them another clear advantage. CPAs are also exposed to tax laws and the latest revenue rulings, which offers an advantage over various other types of analysts.
As mentioned earlier, there are disadvantages to hiring a CPA to perform a business valuation. The most significant one is that they only understand the business’s book value and not its market value.
Most accountants are pretty open about not being comfortable working with operating and/or performance forecasts for a business that is being valued. Basically, they can work with the history of a business but aren’t as familiar working with future predictions and will fail to offer an accurate forecast. This is why some accountants have been exposed to malpractice lawsuits, especially when it comes to audits, but also in the litigation support area.
The fact is that business valuation is somewhat subjective in nature, and that’s where CPAs may fail if they don’t have other tools in their professional toolbox.
Business Brokers
Business brokers have an advantage in the sense that they are involved with these types of transactions almost on a regular basis. That’s why they are more familiar with the fair market value of a business being appraised. However, many, if not most, business brokers have not completed the required business valuation training, making them mostly salespeople and not necessarily analysts.
In most cases, an unqualified business broker will tell you that a similar business sold for “X amount” a few weeks or months back; based on that, your business is worth that amount.
Business brokers will often fail to understand the effect of “time value of money” and how that will affect the terms of a transaction may have. Let’s say that the so-called similar business was sold for 20% down, with the remaining payments being made over the course of five years with zero interest. In that sense, the value will be far less than if 100% is paid at the time of the down payment/closing. The lack of valuation training also means that business brokers will fall back on the investment value standard and not understand fair market value.
The other drawback of business brokers is that they value businesses based on so-called “rules of thumb.” But this approach can be dangerous because they work as market makers as compared to valuation analysts. Also, the broker is unable to offer financial statement analysis which is one of the backbones of an accurate valuation.
Investment Bankers
Investment bankers are often employed to perform valuations of various assets, including real estate, initial public offerings, going public, and gift tax valuations. Investment bankers are often involved in large valuation assignments, mainly in the millions of dollars range. They are often used on assignments where the stakes are high. The approach for valuation for these businesses is very different as compared to valuing a non-public and/or a locally owned business (i.e. a mom-and-pop style business).
Commercial Real Estate Appraisers
It seems as though each time the real estate market tumbles or stalls, a growing number of professionals become appraisers. Some even become mentors, teaching students how to evaluate businesses which for the most part appears harmless, but not all businesses are associated with the real estate industry. The fact is, even though many real estate investors may understand how business valuation works, they don’t have the qualifications or the experience to accurately determine what a business in, for instance, the finance industry is worth. However, they may be a good choice if you’re solely seeking to get a piece of real estate property appraised.
Hiring an Accredited Business Appraiser
ABV (Accredited in Business Valuation) is a professional designation mainly meant for CPAs who are in the profession of valuing businesses, this designation is governed and regulated by the American Institute of Certified Public Accountants (AICPA).
The certification requires that professionals start with completing the application process, then pass the exam and meet the minimum Business Experience and Education requirements. ABV’s pay a credential fee annually and are required to meet annual continuing education requirements.
One of the policies set forth for maintaining ABV credentials for certification holders is to meet the minimum standards for lifelong learning and experience. However, successful candidates then earn the right to use the designation (ABV) with their names, which helps improve their employment opportunities or work independently as valuation specialists.
A few primary reasons why a business owner or someone looking to acquire a business should invest in hiring a seasoned ABV.
Credibility
Buyers and sellers tend to accept the conclusions of a certified valuation expert compared to an uncertified individual. A certified review often requires that the analyst follow accepted industry guidelines which is why the conclusions arrived at the end of a valuation are frequently accepted by everyone involved.
Resolve legal disputes
In the event of a legal dispute, a court of law will most likely accept the word of a certified expert. For instance, if a partner wants to dissolve a partnership, the owners could disagree on the value. If that case goes in front of a judge, the determinations of certified valuation experts will help determine the legal value of any assets or economic damages involved in the case.
Business owners sometimes agree on a business valuation formula prior to any disputes as part of a buy/sell agreement. If a part-owner wants to sell their stake, the buy/sell agreement helps a certified valuation expert to easily resolve the issue in the event there is a legal dispute.
Raising capital or a Merger
If a firm is raising capital, an investor will want to take a look at what a certified valuation expert has to say. A certified valuation is also essential when two firms are considering a merger.
Conclusion
An accurate business valuation is a process that requires a certified professional with experience. The more experience across multiple industries, the more accurate and detailed the resulting valuation.
If you want a serious professional valuation, ensure that the professional you hire is a CPA (Certified Public Accountant). The CPA should also have a reputable business valuation certification like an ABV (Accredited In Business Valuation).
It will also help if you verify the credentials claimed by the business valuation expert. Check with the certifying body or association to see if their credentials are valid. In most cases, it only requires that you call or send a message via their (certifying body) website.