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The 5 Biggest Mistakes Made When Getting A Business Appraised

Garry Stephensen

Article Author: Garry Stephensen
Position: Managing Director
Read time: 6 mins

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Most business owners will, at some point, want or need to know how much their business is worth. They will be faced with the task of finding someone to perform a business appraisal or valuation. Since this is unfamiliar territory, the owners often make some big mistakes.

Mistake #1 - Automatically hiring your existing CPA firm

Business owners often assume that all CPAs are competent in business valuation. In fact, many CPAs have very little or no business valuation experience or training. Don't expect your CPA firm to tell you if they are not proficient in this area. Firms are often reluctant to; turn down additional revenue, admit their lack of expertise, and refer you to a competitor.

Ask your CPA firm if they have any staff that are credentialed and experienced in business valuation. Then get an anonymous list of their prior business valuations by business size and type. Don't be too concerned if they have not valued a company in your same industry. Regular and recent business valuation experience is much more important. If they don't have adequate business valuation experience, ask if they would recommend a firm that does.

Mistake #2 - Automatically hiring a referred professional

Referrals mean different things to different people, so you must ask on what basis it is being given. If it based on a brief meeting at a networking event, then don't give it much weight. Referrals based on reputation alone are only slightly better. Seek referrals based on first-hand dealings with the referred professional. All referrals, even high quality ones, need to be evaluated further to determine their business valuation competence.

Mistake #3 - Using rule of thumb formulas

Many business owners believe there is some secret formula that can be used to accurately value their business. There are many rules of thumb and they are not a secret. Rules of thumb can be useful to get a "quick and dirty" estimate, but they have some serious flaws. No one really knows the quality and the quantity of the data on which they are based. The formulas typically use multiples that are expressed in ranges (like 1 to 2 times annual sales) that result in widely varying values. The formulas provide no guidance on how to select an appropriate number within that range. Most importantly, these formulas do not account for the unique characteristics and factors that affect the value of a specific business. If a business valuation will be given to third parties or subject to dispute, rule of thumb formulas just won't stand up to the scrutiny.

Mistake #4 - Paying too little

Business valuations typically cost thousands of dollars. In an attempt to save money business owners often look to get one on the cheap. There are a number of sources on the Internet that will value a business for substantially less cost. The old adage - you get what you pay for - applies here. These services use various formulas, proprietary data, checklists, and etc. to arrive at an estimate. Some even come with rather impressive looking reports. In general, these services are just high-priced, dressed-up rule of thumb formulas.

Mistake # 5 - Paying too much

Business valuation firms often set minimum fees and limit the levels of service without regard to the cost restraints of smaller companies. By omitting some valuation procedures that typically aren't relevant to smaller businesses and preparing summary-style reports, firms can legitimately and significantly reduce the cost of a business valuation. A high cost, full scope business valuation is often overkill for a small businesses. Look for a firm that can match your needs more closely to save money. Fees can vary greatly so it pays to shop around. Seek the best professional for the best price, not necessarily the lowest price.

By taking the time to do some basic research business owners can avoid these mistakes, hire a competent business valuation professional, and get the most value for their money.

As seen in the Financial Review and the Courier Mail.


Can a Business Owner Value Their Own Business?


Attempting to value a business without professional assistance presents several significant risks and limitations, potentially leading to serious financial and legal repercussions.

Firstly, business valuation is a complex process that requires a deep understanding of various financial principles, methodologies, valuation multiples and market conditions. Without professional expertise, a business owner may rely on overly simplistic formulas or rules of thumb, which can lead to inaccurate valuations. These methods often fail to consider unique factors such as the company's market position, competitive landscape, or specific operational efficiencies and risks. Consequently, the valuation derived might be significantly off the mark, either undervaluing or overvaluing the business.

Financially, an incorrect valuation can have dire consequences. For instance, if a business is undervalued, the owner might sell it for far less than its true worth, resulting in substantial financial loss. On the other hand, an overvalued business might deter potential buyers or investors, leading to missed opportunities and prolonged periods of liquidity issues. Moreover, if a business owner seeks financing based on an inflated valuation, they may face difficulties when the business fails to meet the expected performance metrics, potentially resulting in loan defaults or damaged creditworthiness.


The 5 Biggest Mistakes Made When Getting a Business Appraised

Legally, an inaccurate business valuation can lead to disputes and litigation. If the valuation is used in a transaction, such as a sale, merger, or acquisition, and the figures are later contested, the business owner could face legal challenges from disgruntled buyers or partners.  In addition, there are certain scenarios, such as a shareholder dispute or divorce settlement where an incomplete or improper valuation could easily be legally contested.  These situations often result in lengthy and expensive legal battles and penalties.

The risks and limitations of valuing a business without professional help include financial losses from incorrect valuations, missed opportunities, difficulties in securing financing, and potential legal disputes. Engaging a professional ensures a thorough, accurate, and defendable business valuation, mitigating these risks and safeguarding the business owner's financial and legal interests.

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Benefits Of A Well-Conducted Business Valuation

At Lloyds Corporate brokers, we have seen many, many business valuations.  Some well-done. And some not so well-done.  A well-executed business valuation can often be the key ingredient in obtaining investment or loans, offering a reliable and data-backed evaluation of a company's value. This document will cover key topics like:

  • financial stability
  • growth prospects
  • risk profile

Lenders and investors will evaluate these crucial considerations in their decision-making process. The following are six ways that a robust valuation can assist businesses owners in securing much needed funding for their enterprises:

1. Credibility and Confidence 

Ensuring credibility in any business valuation that you commission is of utmost importance.  A meticulously conducted valuation, particularly one carried out by a respected and knowledgeable expert, holds more weight that attempting to do one yourself using an online template.  It demonstrates that you, as the business owner, is committed to full transparency in the business. This will foster trust with investors and lenders. Stakeholders are more inclined to invest in, or finance a business that presents a clear and professional valuation, rather than one based on ambiguous or unverified data.

2. Risk Assessment

Quite obviously, investors and lenders are inherently risk-averse. A thorough business valuation includes an evaluation of various risk factors including:

  • market volatility
  • competition
  • regulatory changes
  • internal operational risks

By quantifying these risks and demonstrating how the business is equipped to manage them, the report can reassure stakeholders about the company's resilience and risk management capabilities.

3. Accurate Valuation Metrics

As corporate brokers, we rely on specific financial metrics to assess the viability of business we are looking to sell. Similarly, investors and lenders will rely on similar data to assess the viability of their investment.  A good valuation will provide detailed figures that include:

  • price-to-earnings ratio
  • return on investment
  • debt-to-equity ratio and more.

These KPI's help stakeholders evaluate the business against industry benchmarks, making it easier for them to determine the attractiveness of the investment or loan. Accurate valuations also support negotiations by providing a solid basis for discussing terms and conditions.

4. Strategic Insights

Beyond numbers, a detailed valuation can offer strategic insights into the company's strengths, weaknesses, opportunities, and threats (SWOT). This strategic analysis can highlight the company's competitive advantages, potential growth areas, and strategic priorities. Investors and lenders appreciate this depth of understanding, as it indicates that the business is not only aware of its current position but also has a clear vision for future growth and profitability.

5. Enhanced Negotiation Power

As the saying goes – knowledge is power.  When a business owner is armed with a credible and detailed valuation, they are are in a better position to negotiate terms with potential investors and lenders. The report serves as an indisputable reference point, reducing the likelihood of undervaluation or overvaluation disputes. This objectivity ensures that the business owner can secure fair investment terms or loan conditions, ultimately benefiting the company's long-term financial health.

6. Facilitating the Due Diligence Process

Conducting thorough due diligence investigations is a normal, and sometimes frustratingly lengthy, part of any investment decision process. Any stakeholder, whether an investor or lender, will want to see all relevant financial information. 

Having this data prepared and ready can save you valuable time and resources, and also minimise the risk of surprises or discrepancies that could hinder the funding process.

 

Business Broker - Garry Stephensen

Garry
Managing Director
Business Broker - Karen Dado

Karen
Director NSW
Business Broker - Geoffrey Tulett

Geoffrey
Lloyds Corporate Partner - Mergers & Acquisition Specialist
Business Broker - Jack Phillips

Jack
Corporate Advisory
Business Broker - Edward Alder

Edward
Director Victoria
Business Broker - Dianne Reynolds

Dianne
Research Director and Corporate Broker

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